Market corrections are too often feared by market players rather than embraced. For many investors, the attitude is that the only good market is one that is going straight up every day. That is a nice, though unrealistic, goal if you are long-term passive investor. However, if you trade even a little bit, it is the downside action that creates the big opportunities.
Rather than fear and dread market weakness, it should be viewed as an opportunity. The problem is that optimism tends to erode when there is a poor market and we are dealing with losses in individual stocks. Rather than think offensively, we turn defensive and tend to forget about the opportunities that are developing.
The best way to develop an opportunistic mindset is not to use up your mental and emotional energy dealing with negatives. You need a solid plan for the positions you are holding and then to act on it. Too often, traders aren't sure what to do when there is a pullback and that uses up all their energy.
If you can set aside the negative emotions created by losses, it then becomes much easier to start thinking in terms of opportunity.
The first step in taking advantage of opportunities created by weak markets is to have a shopping list. Many stocks are sold without regard to fundamentals or future prospects in a weak market and that is where we want to look. What stocks are most likely to bounce back quickly after a market selloff subsides?
I focus on stocks that not only have good fundamentals but also are likely to have a positive catalyst in the near future. I don't want to buy just because it is perceived as cheap due to where it is relative to recent action but because there is likely to be some sort of news that will interest investors.
In many cases it isn't even important to hold for the actual news. All that there needs to be is some anticipation of a positive outcome. A stock with good fundamentals and the potential for good news is going to attract buyers at some point. That is the action we want to exploit.
A good example of the sort of stock I'm looking at is Zogenix Inc. (ZGNX) . Back in mid-July the company announced positive news for a drug that treats Dravet syndrome, which is a form of epilepsy. The stock spiked to $62.75 but has been in a downtrend since then.
Zogenix caused some of the pressure by doing a secondary offering at $52, which was not timed very well or even necessary. When that pricing failed to hold another round of selling hit and took the stock down to $45 on Thursday.
On Friday morning an analyst at B. Riley FBR placed a target of $116 on Zogenix and stated that it believes its drug has blockbuster potential. The company is likely to have more data before the end of the year, which is the potential catalyst that many market players will be anticipating.
The chart of ZGNX is quite unattractive right now. It is below key support levels and moving averages, but there does seem to be support at $45.
My game plan is to slowly average in to the sock. By slowly I mean over the course of weeks. I'll look to buy on dips and then would ramp up my buying when the stock moves back over the $50 level and develops some positive momentum again.
If you look at the chart of Zogenix right now the easy conclusion is that there is something wrong with the stock. Obviously someone wanted out and they weren't too concerned about getting a good price. There may be an unknown negative so you have to still have a stop-loss point in mind. I'd probably cut the position some if it closed under $45.
A lot will depend on overall market action, too. The stock sold off in large part due to weakness in biotechnology in general. It will bounce with the sector as well.
There are other stocks on my shopping list that aren't in a downtrend. For example, Amyris Inc. (AMRS) had a strong move following recent news that it is unveiling a natural, no-calorie sugar substitute made from sugar cane. However, it then would decline four days in a row in the weak market. There is some support around $8, which looks like a good entry in anticipation of the actual news in the next couple months.
Weak markets are what create the best opportunities. The key to taking advantage is to have the right mindset, finding the right stocks and then developing a plan for trading them. The worse the market action, the better the opportunities, so rather than dread downside we should be welcoming it.